July 17, 2007

Genentech: Stuck in a Rut

Recommendation: Hold
Fair Value: $80
Disclosure: I have no position in DNA

In looking at the intrinsic value for Genentech, I'm with the Street right now: it is not time to buy DNA. Genentech, as I see it, is stuck in a rut. It is beginning to mature, which leaves a large biotech firm in a state of flux. The company is digressing from the biotech growth story that it has been and is starting to look more like Big Pharma.
The stock is very cheap compared to what it has been. DNA is seeing a multiple contraction that has the stock trading at 30-times the last 12 month's earnings. That is so low for a biotech firm. In fact, several big biotechs are experiencing this multiple contraction (Amgen is at 22, Gilead 31). However, if DNA were to transition into a company like Big Pharma stocks Merck and Pfizer it would be trading at a multiple much higher than those stocks do (Merck 24, Pfizer 10).
This is where the rut lies. As investors, we need to figure out where the company goes next. This year seems pretty bleak for DNA shareholders. Most analysts do not think there are short-term catalysts to propel the stock upward. So, we need to look to 2008 and beyond.
The company has a deep pipeline as it looks to solidify current drugs with more approvals and add a few new drugs in more diversified areas. For the most part, Genentech's growth in the future is going to only come from its current drugs, with the exception of a drug to treat Adult Growth Hormone Deficiency, which is in Phase III trials. It is a plus that it is trying to extend its market share for Avastin, Herceptin, and Rituxan, but investors are going to have to wait until 2008 to see if the pipeline can expand as its current Phase II trials begin moving to Phase III. Success in the second phase for some of the Genentech's drugs will help continue to diversify the company beyond cancer drugs, and will help investor confidence that the company can keep growing beyond its current drugs.

I am placing a hold on Genentech. I believe it is worth around $80, but with the current negative sentiment and a lack of any short-term catalysts, I do not believe the stock can trade back above $80 at least until a clearer picture of the company's direction comes out. I think investors will just have to be patient with DNA and see what happens.


Anonymous said...

interesting article. I would love to follow you on twitter.


Great stock